Meta

Greg Mankiw is the Chairman and Professor of Economics at Harvard. His blog is ranked No 1 in the US by economic professors. He blogs:

When people think about inequality of incomes, a key issue is inequality of opportunity. Some people are born to rich parents who can afford private schools, summer camp, SAT tutors, etc., while others have poorer parents who cannot easily afford such things. One might wonder how much of the income inequality we observe can be explained by differences in the resources that people get because of varying parental incomes.

Let me suggest a rough calculation that gives an approximate answer.

The recent paper by Chetty et al. finds that the regression of kids’ income rank on parents’ income rank has a coefficient of 0.3. (See Figure 1.) That implies an R2 for the regression of 0.09. In other words, 91 percent of the variance is unexplained by parents’ income.

I would be willing venture a guess, based on adoptionstudies, that a lot of that 9 percent is genetics rather than environment. That is, talented parents have talented kids partly because of good genes. Conservatively, let’s say half is genetics. That leaves only 4.5 percent of the variance attributed directly to parents’ income.

Now, if you let me play a bit fast and loose with the difference between income and income rank, these numbers suggest the following: If we had some perfect policy invention (such as universal super-duper pre-school) that completely neutralized the effect of parent’s income, we would reduce the variance of kids’ income to .955 of what it now is. This implies that the standard deviation of income would fall to 0.977 of what it now is.

The bottom line: Even a highly successful policy intervention that neutralized the effects of differing parental incomes would reduce the gap between rich and poor by only about 2 percent.

This conclusion does not mean such a policy intervention is not worth doing. Evaluating the policy would require a cost-benefit analysis. But the calculations above do suggest that all the money the affluent spend on private schools, etc., explains only a tiny fraction of the income inequality that we observe.

The best way to reduce the gap between rich and poor is education, in my opinion.

Barack Obama is facing all kinds of issues in the US at the moment- healthcare reform, whether to put more troops into Afghanistan, climate change, you name it. All the while, he faces huge expectations on the left and visceral anger on the right.

But one thing he can point to is a stimulus package that has made some big investments in covers green jobs, extensive social assistance and research. The stimulus package included $21.5 billion in funding for research and development, particularly in leading edge genetic research. The money has been spread around the US, and is having a great effect in encouraging research where private sector funding has dried up.

This is the kind of long term thinking that has been missing from NZ’s response to the recession. Of course we don’t have $21 billion to do this, but our government has set on the sidelines, and worse still pulled back from research funding. If we want to improve productivity and develop a new economy, we need large scale investment. On this issue, the Obama administration is showing the way

While I am all for genetic research (then we can clone Hayley Holt), I think Grant’s drooling over Obama’s fiscal stimulus is rather regrettable. Even if one puts aside the huge fiscal deficit Obama is running (which makes you wonder about how large a deficit NZ Labour is planning), have a look at this graph from Harvard Economics Professor Greg Mankiw that someone linked to in the comments.

So the light blue line is what Obama said would happen without his fiscal stimulus, and the dark blue line is what he said would happen with his fiscal stimulus. And the red line is what has actually happened.

And this is Labour’s solution to rising unemployment!

Incidentally in NZ, where we had a more modest fiscal stimulus, consisting of tax cuts and advancing necessary infrastructure investment, the unemployment rate is just 6.0%. It was projected to peak at 8% (or even 9.8% on the downside scenario), but the latest Reserve Bank forecast is now for it to peak at 7.0%.

Now this doesn’t mean a massive fiscal stimulus spendup makes unemployment go even higher. I am not saying Obama caused unemployment to go higher than projected.

The lesson is that the Government impact on unemployment is limited. The private sector is what creates job, not the Government. Government created jobs are funded from private sector taxes and you need private sector jobs to pay those taxes.

Obama has saddled future generations with an out of control deficit, and debt which will soak up money which could be spent on health or education.

This is what Labour wanted for New Zealand. They have proposed mounds of extra spending that would have stuff all impact on unemployment, but leave a massive debt burden for the future.

Greg Mankiw writes in the NY Times about a small special interest group – economists. He give a list of eight policies that he says would appeal to the vast majority of economists.

Support free trade

Oppose farm subsidies

Leave oil companies and speculators alone

Tax the use of energy

Raise the retirement age

Invite more skilled immigrants

Liberalize drug policy

Raise funds for economic research

I support pretty much all of the above. It is of course a matter of degree. We have GST on energy and petrol excise tax to fund the roads and the ETS will be a tax on energy, so I’m not saying you want even more taxes.